CPI inflation speeded up further to 2.6% y/y in March from 2.5% y/y in February, the Czech stats office said on Monday. The print beat the CNB’s monthly forecast for 2.3% y/y increase of consumer prices in the month and is broadly in line with the market consensus for 2.5-2.6% y/y inflation. The March inflation print is 0.6pps higher than the CNB’s 2.0% inflation target and is also the highest one since November 2012 (2.7% y/y). Thus, for a fifth straight month consumer price inflation is within the 1-3% tolerance band around the central bank’s target after being below the lower end of the band for almost three years.
Consumer prices flattened m/m in March as food and transport prices, which drove the monthly increase in the previous four months, fell again — by 0.2% m/m each. Food prices monthly decrease was underpinned by the 10.7% m/m drop of vegetable prices, while prices of fruit were higher by 4.1% m/m, of bread and cereals – by 1.1% m/m, meat – by 0.7% m/m, cheese – by 1.4% m/m, among others. The monthly decline in transport prices was driven by the lower by 0.6% m/m prices of automotive fuel, the first monthly decrease after six consecutive months of increase. Prices of recreation and culture also fell – by 1.4% m/m to reflect lower by 6.1% m/m prices of package holidays. At the same time, prices of alcoholic beverages and tobacco increased by 0.7% m/m driven by higher by 2.9% m/m prices of beer, prices of furnishings also increased by 0.7% m/m, while prices of clothing – by 1.0% m/m.
The acceleration of the annual inflation in March came mainly on the back of developments in furnishings, alcoholic beverages and tobacco, and housing prices since, as expected, the annual increase of food and transport prices slowed down in the month. Food prices grew by 4.4% y/y in March, slowing down from 4.6% y/y increase the previous month, thus having negligible 0.04pps negative contribution to the headline inflation acceleration in the month. Nevertheless, food prices growth in March was the second strongest print since December 2013. Transport prices grew by 6.3% y/y in March, decelerating from 6.6% y/y increase in February, thus reporting the second strongest pace of increase since January 2010. It seems that, as expected, fuels’ base effects have already started gradually being exhausted. Thus, transport prices had some 0.03pps negative contribution to the headline inflation acceleration in March. By contrast, furnishings prices that fell by much slower 0.3% y/y in March, contributing 0.06pps to the headline inflation acceleration in March (as their annual fall decelerated from 1.3% y/y decrease in February) and alcoholic beverages and housing prices, which increased by stronger 3.4% y/y and 0.9% y/y, respectively (had 0.3pps positive contribution each), contributed to the headline inflation acceleration in the month.
The March annual inflation print is 0.3pps above the CNB’s forecast for the month of 2.3% y/y and confirms that the anti-inflationary effects from the import prices of oil and food have been fully exhausted. Moreover, it seems that domestic real economy is creating sufficient inflationary pressures to have supported the annual inflation acceleration in the month (note that the share of unemployed decreased further to 4.8% in March, which we assume will continue supporting robust nominal wage growth amid qualified labor shortages going forward) and that inflation is not solely being driven by high comparison base effects with regard to food and fuel prices. Note that an approximation of core inflation – prices excluding domestic heating and lighting oils, automotive fuel, increased by 2.2% y/y in March, speeding up from 2.0% y/y increase in February. According to the CNB’s February macroeconomic forecast, inflation was to peak at 2.7% y/y only in Q3, then start gradually subsiding to return to the central bank’s target from above at around end-Q2 2018, but now it seems that the central bank’s forecast is to be overshot. According to the forecast, the inflation acceleration going forward is to be driven by strongly growing domestic costs in the entire forecast horizon to reflect rising wages and price of capital amid robust economic activity, along with the renewed increase in industrial producers’ prices in the euro area. At the same time, potential crown’s firming as of mid-2017 onwards (the crown firmed by about 2% to EUR/CZK 26.48 since Apr 6 when the CNB ended its fx commitment to keep the crown weaker than EUR/CZK 27 and let it float freely in line with supply and demand) may mitigate the abovementioned influences, the CNB expects. Food and fuel prices are to temporary report strong increases with that for fuels to reflect the annual increase in global oil prices, but fuels’ base effects are to start gradually being exhausted as of March onwards.
Given the above, the March inflation print is consistent with the CNB’s reasoning for terminating its fx commitment on Apr 6 with immediate effect. Recall that the CNB assessed the risks to the inflation forecast on the upside, that the fx cap on the crown and maintaining it was no longer consistent with the current state of the economy and that keeping it in place for several months is unlikely to markedly raise sustainability of inflation target fulfilment, but may increase the risks of macroeconomic imbalances. Now that the crown has been left to float in line with demand and supply, we believe that the CNB is likely to wait with monetary tightening via interest rates for a while until the market absorbs the shock and the crown stabilizes at a new equilibrium level that reflects economic fundamentals. For the time being the crown has been fluctuating quite moderately and definitely much more moderately than expected by the market with the strongest appreciation since fx cap end being some 2% to EUR/CZK 26.48 on Monday morning. Most analysts expect the crown to firm by some 5% in next twelve months and stabilize at a level of some EUR/CZK 26, close to the pre-intervention levels, but the central bank sees such consideration unjustified as it believes that the weaker crown level has already passed through to the price level, wages and other real economy variables and the former fx floor of EUR/CZK 27 is close to the new equilibrium. Still, Governor Jiri Rusnok has admitted that higher volatility is yet to come following the reversal of the huge crown positions of investors that piled into crown assets betting on Swiss-like scenario of sharp crown’s firming after the fx cap end. Rusnok said in an interview with local Hospodarske Noviny daily on Monday that if inflation develops sustainably and returns to the 2% inflation target in a stable manner, the central bank could start gradually raising interest rates between the end of 2017 and the beginning of 2018.